Walker's World: Merkel's tricky year

PARIS, Jan. 7 (UPI) -- Europe's course this year will be defined by two elections in major countries: Italy goes to the polls in the last weekend in February and Germany has general election in September.

The timing could hardly be worse. German Chancellor Angela Merkel wants nine months of stability in the eurozone before cruising to re-election. But the probable outcome of Italy's elections means that she is unlikely to get it.

The Italian election features four key personalities. Leading the opinion polls with 36 percent is the ex-Communist Pier Luigi Bersani, now transformed into a moderate who leads the center-left coalition and says Italy is facing "the worst crisis since the second world war." A quietly spoken man, he chomps cigars, perhaps to make his professorial image less forbidding.

The outgoing prime minister, the technocrat Mario Monti, who has proved a safe pair of hands over the last year, has 23 percent, lower than expected because of his failure at the basic business of politics, to rally sufficient parliamentary support to enact serious economic reforms. He has modestly improved Italy's finances and the markets have accordingly lowered Italy's bond yields but the economy remain sunk deep in the doldrums.

Then there is the former Prime Minister Silvio Berlusconi, who has clambered back from the political dead after one too many sex scandals and several too many of his famed bunga-bunga parties, which are said to have Roman orgies look almost strait-laced. He comes with a new bride some four decades younger than himself and claims to have been born again. Berlusconi, who scored 22 percent of the vote in the latest opinion polls, still commands vast swathes of the Italian media and is a skilled campaigner and performer. He cannot be ruled out.

The fourth figure, the satirist and comedian Beppe Grillo who launched the populist Five Star movement and opened his campaign by swimming the Straits of Messina between Sicily and the mainland, has 15 percent.

A coalition between Monti and Bersani's center-left appears at first sight to be the obvious winning combination. They are both pro-Europe, while Berlusconi and the Five Star Movement are running against Europe and what they call German domination. The problem is that, rather like the Democrats and Republicans in the United States Congress, they disagree on reform. Bersani depends on labor union support while Monti wants spending cuts.

The economic context is grim, with domestic retail sales down almost 5 percent over the year. Unemployment is more than 11 percent overall and more than 36 percent for those under the age of 25.

"Even if a stable pro-reform government is formed, any boost that further reforms provide the economy is unlikely to be felt for several years," comments Ben May of London's Capital Economics think tank." Last year, the economy probably contracted by more than 2 percent. With business surveys pointing to worse to come, we think that (gross domestic product) may fall by as much as 4 percent in 2013. Accordingly, even if Italy avoids a period of political uncertainty in 2013, we expect economic and hence financial worries to persist."

The broader European context is also dismal. Retail sales in France have dropped for the ninth month running, are trending down in Germany and Spain is in desperate straits. The fear of a bond market crisis has been eased by Mario Draghi of the European Central Bank and his pledge to do "whatever it takes" to save the euro. But with a drop of $400 billion in European corporate investment over the past four years the economic outlook is for little or no growth.

Desmond Lachman of the American Enterprise Institute points out that ECB support is premised on countries in the European periphery "committing themselves to multiyear budget austerity programs along the lines proposed by the European Commission. Since those programs imply budget deficit reductions of between 2 and 3 percentage points of GDP a year at a time of economic recession, it is difficult to see how the application of such a severe degree of budget austerity will not lead to a deepening in the European periphery's recession in 2013."

This makes for an unhappy prelude to the German election, where the question isn't whether Angela Merkel leads the poll, as she almost certainly will, but whether her favored coalition partner, the Free Democrats, will clamber past the 5 percent threshold to qualify for seats in the Bundestag that she will need for a parliamentary majority. Right now, that looks unlikely.

A coalition between the Social Democrats and the Greens is one alternative, or a tussle between Merkel and SPD for the support of the Greens, which is likely to mean more chaos in Germany's energy policies as the Greens demand yet more subsidies for renewable energy. Another grand coalition between Merkel's Christian Democrats and the SPD is also possible, which would mean divided counsels at a time when the Bundesbank sees the economy growing only 0.4 percent this year.

While Merkel will do whatever she can over the next nine months to keep Europe calm and the euro alive, the sinking economic hopes of Italians, French and Spaniards may yet play the decisive role for Europe's politics this year.

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